The End of Low Volatility?

Whether you view Friday’s stock market sell-off as an adjustment to permit the markets to climb higher on a more solid base, or were nervous about the sharp short term “loss” of unrealized gains, it’s clear that the stock market’s meteoric, historically-long winning streak hit a bump in the road this week.

Draw downs and sell-offs are normal, but they are still painful when they occur. The market calls it a “correction” but, to the individual investor seeing their net worth drop, it never feels “correct,” particularly since it’s impossible to accurately predict when the volatility and the draw down in prices will end.

It’s hard for anyone to really anticipate what their own risk tolerance will be until it’s put to the test. In moments of calm, we all want to think we’ll have the presence of mind to remember that the market is cyclical and that downturns and corrections are often an opportunity. Things might look a little different though, if your child’s 529 plan funds just shrank, or if you’re nearing retirement and are counting on an IRA and a 401K, or if you were just about to take some earnings to finance an important project.

Notice how you felt on Monday as the market dropped again: it’s a good insight into your current risk tolerance.

Market values have increased dramatically in the last few years and in 2017 in particular. This current market volatility comes after the longest period in history without a correction and with remarkably low volatility. As a result, Friday’s sell off and Monday’s drop may have been a bit of a shock, even though a 5% drop was not unusual as recently as 2016. That makes it particularly difficult to anticipate what will happen next, in the direct short term, since investors may react unpredictably, including too many people who are driven by how they guess others will react.

There are two important things to remember when the market is volatile. The first is that volatility and risk are not the same thing: volatility is a normal variation in value, risk is the possibility that an investment will fail. The second is that it’s important to look at trends over time, not just yesterday’s news. As I said in this CNBC interview this week, this is a long-term process: you can’t be in it for just the 48-hour cycle.

If you’d like to review your financial plan or discuss how your allocations conform to your own risk tolerance and response to volatility – please let me know and we’ll schedule a call to review your plan.

This post comes from our Tuesday Newsletter. To never miss Brad’s thoughts on building a successful future through smart planning, sign up here: